Generally considered an alternative to the mainstream banking system, non-banking financial companies (NBFCs) play an important role in an economy like India, with the growing financial needs of the urban middle class, and a predominantly rural population. NBFCs are companies registered under the Companies Act of 1956 that provide banking services without holding a bank license. They offer a variety of services such as loans and advances, saving and investment plans, credit facilities, insurance, acquisition of shares, and more.
To commence their business, the NBFCs require registration with India’s apex bank, the Reserve Bank of India (RBI). However, certain NBFCs (which are regulated by other regulators) such as insurance, stock broking, chit fund companies, venture capital funds, and a few others are exempted from registration requirements. Investment companies, asset finance, loan companies, and infrastructure finance are common examples of NBFCs based on activity.
NBFCs are at the forefront of financial inclusion in India, facilitating credit to key and niche sectors of the Indian economy ranging from infrastructure to unbanked sections of the society. They play an integral role in the diversification of the Indian financial sector by mobilizing resources and providing loans at payable costs. They provide various kinds of credit such as consumer loans, mortgage loans, auto loans, gold loans, etc.
The banking sector with its stringent lending process finds it difficult to cater to an extensive customer spread. Most customers seek NBFCs on account of their quick decision-making, minimal requirements for documents, and prompt services. Additionally, government schemes like ‘Make in India’ gave a boost to the country’s manufacturing sector fostering credit demand from heavy industries. The credit-hungry micro, small, and medium enterprise (MSME) sector also increasingly seeks NBFC funding.
Microfinance institutions (MFIs), a specific category of Non-Banking Financial Companies (NBFCs), provide loans to individuals and groups with low income. As of the financial year 2023, due to favorable macroeconomic conditions and increased demand, these NBFC-MFIs have outperformed banks in the overall microfinance sector. The growth trend of MFIs is projected to persist in the upcoming years, largely due to the Reserve Bank of India’s decision to remove the cap on lending rates. This decision has allowed MFIs to implement risk-based pricing strategies, leading to an increase in net interest margins and a boost in the returns on total assets.
However, despite the positive trajectory in the NBFC industry propelled by MFIs, there are risks associated with overleveraging and event-based uncertainties. It’s crucial to account for these risks to ensure the industry’s sustainable growth in the future.
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